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4-24 (continued)
(a)
POTENTIAL THREATS
TO INDEPENDENCE
(b)
POSSIBLE
SAFEGUARDS?
(c)
RULES OF CONDUCT
VIOLATED?
(d)
APPROPRIATE
ACTION?
1. The ability to purchase a car at a
substantial discount due to Marie’s
long-standing audit service may
cause Marie to be favorably
disposed to the client when
evaluating the client’s financial
statements. Also, if users of the
financial statements heard of this
arrangement, some might perceive
that there is a lack of independence.
1. Marie Janes’ firm could establish
policies regarding services
provided by attest clients that
require the managing partner’s
approval prior to engaging in any
transactions with the client. Some
transactions could be explicitly
prohibited by the policy, while
others may require the managing
partner’s approval.
1. Marie Janes has
likely not violated
the rules; the
discount is available
to customers on a
widespread basis.
Presumably many
of the employees of
the CPA firm buy
automobiles from
the dealership.
1. Marie Janes should discuss the
discount with the firm's
managing partner if she intends
or wants to buy the automobile.
She should certainly not feel
compelled to buy the
automobile, but she should not
automatically turn it down. The
situation would be entirely
different if the sale were limited
to employees. In such a case it
would likely be a violation.
2. The ability to eat meals on an
ongoing basis may cause Marie to
be favorably disposed to the client
when evaluating the client’s financial
statements. Also, if users of the
financial statements heard of this
arrangement, some might perceive
that there is a lack of independence.
2. Marie Janes’ firm could establish a
policy regarding free services or
gifts provided by clients. Perhaps
the firm policy could establish a
minimal dollar threshold of
allowable free services or gifts.
Those exceeding the threshold
may either be prohibited by the
policy or may require approvals by
a more senior member of
management of the audit firm.
2. If Marie Janes were
to eat there on an
ongoing basis, that
would likely be a
violation of the rules
of conduct. It would
not likely be a
violation if she
occasionally eats
with employees who
she is dealing with
at the audit.
2. Marie Janes should eat
elsewhere if it is practical to do
so, but if the only practical
place for her to eat is the
lunchroom, she should make
arrangements with her firm to
make certain that the company
is reimbursed for the expenses.
3. Gifts from clients might be perceived
as a subtle form of bribe, and thus
may create a lack of appearance of
independence. Gifts may also cause
Marie to be favorably disposed to
the client when evaluating the
client’s financial statements. Also, if
3. Marie Janes’ firm could establish a
policy regarding free services or
gifts provided by clients. Perhaps
the firm policy could establish a
minimal dollar threshold of
allowable free services or gifts.
Those exceeding the threshold
3. Accepting such a
gift is likely to be a
violation of the rules
of conduct. That gift
is reasonably large,
and would be
considered by many
3. Ideally Janes should not accept
the gift and state that since she
is not an employee, she would
prefer not to take it. If she
believes that it would be
embarrassing to the company,
she should graciously accept it
4-11
Copyright © 2017 Pearson Education, Inc.
4-12
audit committee assists and advises the full board of directors, and,
as such, aids the board in fulfilling its responsibility for public
financial reporting.
b. An audit committee member is considered independent if they
than in their capacity as a board member.
c. The functions of an audit committee may include the following:
1. Select the independent auditor; discuss audit fee with the
auditor; review auditor's engagement letter.
purpose, and general audit procedures).
3. Review the annual financial statements before submission to
the full board of directors for approval.
4. Review the results of the audit including experiences, restrictions,
cooperation received, findings, and recommendations. Consider
attention of the directors or shareholders.
internal controls.
6. Review the company's accounting, financial, and operating
controls.
7. Review the reports of internal audit staff.
are approved by the board of directors.
9. Review company policies concerning political contributions,
those policies.
10. Review financial statements that are part of prospectuses or
offering circulars; review reports before they are submitted to
regulatory agencies.
11. Review independent auditor's observations of financial and
accounting personnel.
4-13
4-25 (continued)
12. Participate in the selection and establishment of accounting
policies; review the accounting for specific items or transactions
as well as alternative treatments and their effects.
d. Management is frequently under considerable pressure from
stockholders and the board of directors to maintain high earnings
for the company. In some cases this may in turn motivate management
to put pressure on auditors to permit a violation of accounting
Directors are therefore less likely to put pressure on auditors
to deviate from high professional standards, and the audit committee
can deal with the auditor in a less biased manner than can
management. In addition, the board of directors has a legal
responsibility to review the policies and actions of management.
e. For public companies, the PCAOB’s rules require a CPA firm,
before its selection as the company’s auditor, to describe in writing
and discuss with the audit committee all relationships between the
f. The criticism of audit committees has been made by many smaller
control costs. Therefore if the cost of a smaller audit firm is
significantly less than a large firm, assuming equal quality, the audit
committee would be obligated to use the less expensive firm.
4-26 a. Independence is essential for an auditor because users of financial
statements expect an unbiased viewpoint in the CPA's attestation
to the fairness of the financial statements. If users believe that auditors
4-14
4-26 (continued)
to outsiders such as users of financial statements. Independence of
mind refers to whether the auditor has maintained an attitude of
independence throughout the engagement. For example, an auditor
could possibly maintain an attitude of independence of mind (also
Conduct concerns both.
d. 1. He has violated the Code of Professional Conduct.
Independence rules prohibit any direct ownership by a
partner or shareholder in the office that serves the client or
engagement.
2. Such a small ownership is unlikely to have any impact on a
partner's objectivity in evaluating the financial statements. It
is unlikely to affect the partner's independence of mind.
3. Such ownership could affect the appearance of independence
the reputation of the profession.
e.
INDEPENDENCE OF MIND
INDEPENDENCE
IN APPEARANCE
SOCIAL CONSEQUENCES
OF PROHIBITING
1. May cause the auditor to
permit misstatements to
enhance personal
wealth.
Users may perceive
that auditors would
permit misstatements to
enhance personal
wealth.
Minor, if any.
4-26 (continued)
INDEPENDENCE OF MIND
INDEPENDENCE
IN APPEARANCE
SOCIAL CONSEQUENCES
OF PROHIBITING
2. Person doing this audit
may not do the audit
work carefully because
he or she did the
bookkeeping.
Users may perceive
that the auditor may not
independently audit his
or her own work.
Some clients find it less
expensive to have
bookkeeping services
performed by an outside
service. It is often less
expensive to have this done
by the auditor, because the
auditor will already be
knowledgeable about the
business.
3. Person doing this audit
may not do the audit
work carefully because
he or she would not
question their spouse.
The auditor also would
not want to point out any
errors due to a concern
that their spouse may
lose their job.
Users may perceive
that the auditor may not
independently audit the
work of their spouse.
Minor, if any, as this should
be relatively infrequent and
the individual engagement
team member could be
replaced by another
member of the firm.
4. The CPA firm may
become complacent due
to familiarity and not
carefully evaluate
potential misstatements.
Users may perceive
the possibility of
complacency.
Knowledge gained by an
audit firm about a client's
business is essential to
evaluate when mis-
statements in the financial
statements are likely and to
plan the audit. It is costly for
a new audit firm to obtain
that knowledge because of
confidentiality requirements
and communication
difficulties between CPA
firms.
5. The auditor may be
unwilling to disagree with
management for fear of
being terminated.
Users may perceive
that the auditor is
unwilling to disagree
with management.
Someone has to select the
auditor. Management is
usually in the best position to
evaluate the effectiveness
and cost of alternative
auditors, especially for
4-26 (continued)
INDEPENDENCE OF MIND
INDEPENDENCE
IN APPEARANCE
SOCIAL CONSEQUENCES
OF PROHIBITING
6. There may be an
absence of a careful
independent check of
the entries or preparation
of the statements because
they were originally
prepared by the auditor.
Users may believe that
the auditor may not
independently audit his
or her own work or that
of a staff person from
his or her firm.
Many clients lack technical
expertise in accounting.
Having services performed
by the auditor is sometimes
the least costly alternative.
7. The auditor may be
reluctant to criticize or
may not rely on a
valuation estimate that
was originally prepared
by another department
of the audit firm.
Users may perceive
that the auditor is
auditing their own work
and will be reluctant to
criticize or question the
estimates.
A CPA firm gains
considerable knowledge
about a client and its
business during the audit.
Due to this knowledge,
valuation services can often
be provided by the same
CPA firm at a lower cost
than alternative sources
such as other CPA firms or
valuation consultants.
they are, in essence, bookkeeping services. The SEC also prohibits
the valuation services in e(7) if they are one of the nine nonaudit
has its own conceptual framework.
b. Guidance on unsolicited financial interests is provided in section
1.240.020. The covered member should dispose of the gift as soon
as practicable, and no later than 30 days after the member has the
right to dispose of the gift. During the period after the member
